Externalities, Incentives, and Economic Reforms
44 Pages Posted: 23 Apr 2004 Last revised: 13 Oct 2022
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Externalities, Incentives, and Economic Reforms
Externalities, Incentives, and Economic Reforms
Date Written: June 1990
Abstract
The paper emphasizes the role of institutions and incentives in the presence of externalities. An economy with multiple public decision makers is likely to experience "overspending," "undertaxing," "overborrowing," and "overinflation" unless effective institutions exist for overcoming coordination failure. External financing may weaken incentives for adjustment over the longer run unless assistance is made conditional on fundamental institutional reforms. The paper also analyses reforms that strengthen incentives to provide effort. Uncertainty regarding future taxes reduces present effort and the responsiveness of output to market signals. In addition, the paper addresses the adverse effects of bank insurance and soft budget constraints.
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